On the Radio

Here are three slogans from the radio that alternately amused and terrified me:

Grimball Jewelers:
"Because we're hardwired to love shiny objects."

Credit Card Consolidation:
"Call now to learn how to get rid of your credit card debt in this era of government bailout."

General Motors:
"Reinventing the ownership experience."

The Rise of the Super Cow

Harvard economist, Greg Mankiw, posted on his blog experts from an article on cows and their relation to global warming. It says:

"a cow will emit four tonnes of methane a year in burps and flatulence, compared with 2.7 tonnes of carbon dioxide for an average car."

Methane also traps more heat than CO2 does. According to Wikipedia, methane is 72 times worse than CO2. Ergo, a cow is nearly 100 times worse that a car.*

The solution that the E.U. has arrived at, is to tax cows. That way the producers and consumers of beef will have to pay for damage done to the environment. The tax that the E.U. arrived at was 80 euros per cow. At today's exchange rate, that is about $100. According to Beef Magazine, where I go for all my cow-related information, the price of a cow is around $1500 or about a 7% tax.

According to the E.U. beef farmers, who lose out with the tax, production will just move to South America. They are likely right, some production would shift to a place without a tax. I think, however, it would be simple enough to make sure all imported cows and beef products have the tax levied on them as well.

But relocating production is not the only way to avoid this tax. Since the tax is per cow, the simple solution is to breed even bigger cows and to pump them full of growth hormones. That's why I predict that Europe will be dominated by supercows within 10 years. Mark my words.

*According to Wikipedia, there are 96 million cows in the US and 229 million cars. Which suggests (if cows are 100 times worse than cars for global warming) that the focus of anti-global warming people shouldn't be the electric car, but rather the polite cow.

In this economic climate

I love the phrase, "in this wintery economic climate." To me, nothing is funnier than saying this to justify something. You here it a lot these days. I heard it on the radio saying that the current economic situation made this the perfect time to buy a new car. Paul Krugman used it to argue for $600 billion in government spending. The most recent time I heard it was in this video from CNN.com.

The video is a commentary from Campbell Brown. According to the video, the CEO of Merrill Lynch, requested a $10 million bonus this year. Why so much money? Because he kept Merrill Lynch's losses down to $11.67 billion. In a frigid economy where other companies like Bear Stearns and Lehman Brothers are going bankrupt, that is actually quite an accomplishment.

Brown's opinion is that this CEO shouldn't get the bonus, but (and I'm sure you already guessed it) my opinion is that he should get the bonus. Many people hate the idea of the huge CEO compensation packages and ask, "if the company does badly, why should they get paid millions?" But let's extend this logic...

Let's say we pay a surgeon only if she saves the patient's life. The result will be that surgeons only operate on patients that are a safe bet. The severely sick and injured patients (the ones who need the best care) will suddenly be unable to find doctors willing to help them*.

What about our education system? Most people claim the way to fix it is to pay teachers more, but let's say we only pay teachers if they're students pass. Same thing is likely to happen. The worst students will suddenly be unable to find teachers.

We're in a deep financial mess and are people reacting by saying, "the solution is to pay CEO's less," but the truth is that CEO pay is high and the contracts pay even in the event of failure because that is the only way to attract well-qualified candidates to companies that need good leadership.

The other big objection to high CEO pay is that if the company is laying off employees, then the people at the top shouldn't be earning bonuses, but if you examine this "fairness" argument, you see that it doesn't help people either.

If a manufacturing plant is no longer earning money, then it will be shut down regardless of what the CEO makes. Unprofitable operations are stopped if the CEO earns two dollars or two million dollars. People act as if there is a fixed amount of money to go round and if it goes to CEO's then it must necessarily come from the workers**. Capping CEO pay doesn't suddenly make it worthwhile to keep employing workers. In fact, a good CEO will know which branches are worthwhile and which aren't so you need to pay CEO's a good salary in order to incentivize them to find the parts that aren't working.

My feeling is that the prejudice against CEO pay is based on jealousy. Everyone likes to think that a CEO job is a nice cushy job that any idiot can do and so they shouldn't earn more than anyone else. In reality, these CEO's are working in a market where things are very uncertain and even if they pick the optimum strategy, they could still fail based on the outcome unknowable variables.

To assuage concerns you may have about the overpayment of CEO's think about the Board of Directors. They don't want to give the CEO money that could be theirs. They'll work hard to make sure the contracts don't pay out more than the CEO is worth. If the Board makes a mistake, then they'll get burned.

As I close I'd like to point out one ironic thing in this video. The tagline for this segment is "No Bias, No Bull." However, halfway through, Brown says that she has a neighbor that was laid off by Merrill Lynch. Perhaps she and this neighbor aren't friends, but if they are that then that probably qualifies as bias.

*I've seen several studies showing that the best hospitals actually have the worst survival rates because the patients that are worst off flock there.

**This is how Marx sees it.

Don't Build Factories

While browsing the internets, I came across a series of pictures. These come from the Facebook picture album of a friend of a friend. They come from a project called "Fingerpainting for Sustainability." I googled it, but nothing came up. Given that I found these pictures on Facebook, I am led to assume that a college educated person made these posters. Let's start with this one:
I'm not entirely sure how shorter showers are more sustainable. As far as I know, the water in my shower goes back into a pipe and goes back to a processing facility. So, I haven't really destroyed or used up any water. I think the assumption must be, more water in my shower less water in the lake. I guess that's true. In any case, I'd recommend another poster though: Don't Subsidize Biofuels to Save Water.
So this sounds reasonable; buying in bulk reduces packaging which reduces the need for landfills. I'm going to turn to a well-informed professor of mine, Dr Dan Benjamin, on this one. He's written a piece for PERC, on the Myths of Recyling. He notes that extensive packaging actually reduces waste by reducing breakage. This isn't exactly what this poster is getting at, but buying in bulk may increase waste. If I get food in bulk I frequently can't eat it all before it goes bad, so I would have to toss the waste food. My caption would be: Buy in bulk if it makes sense to.
This one has to be my favorite. Clearly the answer to our problems to is to stop building factories. Let's forget for the moment that the paint and the paper in this poster were both made at a factory. Factories aren't the problem. Almost everything we consume comes from a factory. Factories are good and we should build more of them. Pollution on the other hand is bad, and that's what we want less of. Instead of building fewer factories, we should be building cleaner factories. There are a number of ways to get factories to be cleaner, but the most efficient (by which I mean best for the environment and people's consumption) is to price the pollution. If firms (and ultimately consumers) have to pay more for goods that damage the environment we would either consume less or switch to greener technology. My alternative caption: Make them pay to pollute.

Just crazy enough to work...

"When depression economics prevails, the usual rules of economic policy no longer apply: virtue becomes vice, caution is risky and prudence is folly."
Paul Krugman, Nobel Prize Winning Economist in a New York Times Op-Ed Piece

"What you see in FDR that I hope my team can emulate is not always getting it right, but projecting a sense of confidence, and a willingness to try things. And experiment in order to get people working again."
Barack Obama, President Elect in a interview on 60 Minutes

Auto Response

I must admit, I got scared when I watched this video. No, it's not one of those videos that you watch for a while before something pops into frame screaming. It's the GM-sponsored video that argues for the auto industry bailout. Currently, Congress is looking to give the Big 3 US automakers around $25 billion in low cost loans.

This would amount to spending $104,000 per job saved at those companies. Sounds like an awful deal when you put it like that and I'm betting GM knows it. That's why in the videos they expand their influence to all of the jobs in all of the sectors that they buy parts from (electronics, plastics, steel, etc). In order to keep jobs in those industries, the US auto industry needs your money now.

The worst thing is, is that it all seemed so reasonable. Even a dyed in the wool economist like me even got worried. So I started doing a little research. Here's what I found out:

The Big 3 pays its employees an average of $70 an hour or $140,000 per year. Japanese companies pay their employees $44 an hour or $88,000 a year. This is a result of the union control at these plants. It makes our companies extremely uncompetitive.

Also, the bailout money is being given with restrictions. Essentially, the money can only be spent to research more fuel efficient cars. That's not going to help most of the employees. They're still going to be fired while the industry waits to invent something the public will buy.

I also found out on the radio that this isn't the first time that the US auto industry has received low cost loans from the government. The problem is, the news is swamped with stuff on the current bailout, so I can't find out anything about it, but I have a conjecture. I bet it was probably around 1981. In 1981, the US and Japan reached a Voluntary Restraint of Trade agreement. The Japanese knew the government was going to put a tariff on imported cars and offered the restraint instead. I bet the reason the US government was considering the tariff was the original bailout. The government knew that raising the import tax on foreign-made cars would help the auto industry. The auto industry had to be propped up in order for the government to get its money back. The quota raised car prices by $1,600 (just like the tariff would have) and cost US consumers $7 billion dollars.

In the end, the government made money off of the deal, helped by the quota. I bet a current bailout would be accompanied by tariffs or quotas again. The government would hate to look like it invested money in people who couldn't pay us back*. The same thing is going to be true of the finance industry. The government is going to become majority share holders in some of those companies and will probably change the rules to make sure the industry is able to pay back those loans.

The whole thing makes me extremely nervous. I don't think the government can pick a winning company better than private investors can. I know things are tight in the credit market, but these companies have been hemorrhaging money for a long time now. Something has to be done to make these companies more efficient, and government money doesn't seem like the way to do it.

*Again

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Update: My guess was right. In 1979, Chrysler petitioned the government for $1.5 billion in low cost loans which were approved by President Carter in January of 1980. The loans were repaid in 1983-earlier than they had to be-and the government made a tidy $350 million. Clearly, the government knew it had a stake in auto industry and went out of its way to help it by hurting everyone else.

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Update 2: Economist, Robert Lawrence, talks about how the auto industry could fail in the future by doing what Congress forces it to do. Article here.

Simple Macro

I've been teaching the Macro part of 200 lately and I've used a post from Mankiw to illustrate a class example. Pretty simple stuff, but I think it describes what is happening to the economy today.

Uncertainty about the future has caused banks to stop lending and thus excess reserves have skyrocketed. This causes the money multiplier to fall creating a short run recession with deflation. The Fed is trying to counter the deflation by increasing the monetary base.

My prediction is that once banks get back to normal lending the money multiplier will rise. As a result, the money supply is going to rapidly increase due to all the money that the Fed put into the system. This will create an expansion and inflation. The Fed knows this is likely to happen and will try to counter it, but my guess is that they'll act too late and we'll still see significant inflation. By trying to stop the run-away inflation (which it created in the first place) the Fed will put the breaks on the economy causing some bubble that was created by the inflation to burst sending us into an other recession.

What should we look for to see if I'm right? The Fed will announce increases in the interest rate. Currently, the Fed's discount rate is around 1.75 (the lowest its been since November 2002; the end of the last recession). I predict that the Fed will raise rates up to around 5% or 6% within two years.

Not a very optimistic outlook, but I think its at least reasonable.